Financial topics

[OLD1953]

Vince, if banks could not create money by fractional reserve loans, then money could not disappear due to loan collapse. Since they can and do, the money can leave the system. This cannot happen in a cash only system, and it doesn't matter what the cash is, but in a fractional reserve system where 90% of the "cash" is actually derivative worth from loans, but spends and buys just like cash, money can indeed vanish in a financial collapse. The creation of money via loans is critical to any hyperinflation, and the destruction of money via loans collapsing is critical to any deflationary scenario in the modern system.

Look at it this way:

Two banks with equal capital, plus one government that wants to stave off bank failures.

Each bank has one million in capital and makes ten million in loans.

By holding two million dollars, they have put twenty million into circulation. Their two million in capital does not circulate, it is frozen as capital reserves. You have a 22 million net, but only 20 million is spendable "money".

Bank A has over a million dollars in loans fail. They go into default as all their capital has gone to pay for their defunct loans. The government springs into action and loans bank B a million dollars at zero percent interest. Bank B acquires the "interests" of bank A for a pittance, but now it gets interesting. Bank B is now technically insolvent, as it has not actually enough capital to survive the expected failures of loans from bank A's former interests. Note that there are less than 20 million in circulation as we had over a million dollars in loans fail, the million from the govt is frozen as A's assets were formerly frozen. Bank B wants to increase it's capital reserve as insurance against these 9 million dollars of remaining garbage the govt asked them to assume, so they quit making loans and start building reserve. As money goes in and B makes no loans, the total money in circulation drops slowly, after the first hit from the initial loan failures. This will continue to happen until B is comfortable with loaning money again.

There are other effects. As the money in circulation drops, people don't want to borrow money. This is a natural and correct reaction to deflation, if you will be paying loans with more "expensive" money, then you don't want loans. If you have inflation, everyone wants to borrow money as you'll be paying loans with less expensive money. Deflation is hard to get away from as it becomes a systemic problem that embeds itself over a period of time until it becomes a norm.

So the "money" from the fractional reserve loans will slowly vanish from circulation during a deflationary period. Cash doesn't vanish, but money does.

[biffbifford]

Interesting discussion. But before we all run around and yell, "the sky is falling", we must ask ourselves, what is protecting the value of the U.S. dollar? No matter how much Bernake prints, the dollar cannot drop below 70 cents. Oh yeah, there is that other issue that creates demand for the U.S. dollar -- You can't buy oil from O.P.E.C. with any other currency. And as much research I have done over the years, the Saudis are not taking gold in exchange for oil just yet. So by all accounts the dollar is backed by foreign oil sold in dollar denominated currency. While we stay focused on the dollar in rabid anticipation for hyperinflation, the feds are not the only culptits in the giant fiat printing ponzi scheme. India, China, Japan, EU, and the ECB have all been printing money like crazy!

http://research.stlouisfed.org/fred2/se ... ata?cid=29
http://www.bankofengland.co.uk/mfsd/iad ... termed.asp
http://www.stat-search.boj.or.jp/index_en.html
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http://www.pbc.gov.cn/publish/html/2010s07.htm
http://www.pbc.gov.cn/publish/html/2011s07.htm
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http://www.rbi.org.in/scripts/BS_ViewBu ... x?Id=11949

Everybody is printing money. The only problem is, in order to buy OIL you still need U.S. Dollars. You can't run your trucks on gold or silver; you can't heat your home or produce electricity with any precious metal so far. Not to mention there are some commodities that can only be purchased in U.S. Dollars. I agree with the hyperinflationists on this board. But I also believe that the U.S. military will defend the dollars hegemony, as it will defend O.P.E.C. nations from radical fundementalists Shiites who seek to destroy the Sunnis and and the Wahhabbis. We still have an ace in the hole, and some years before we see the big hyperinflation theory play out --maybe it won't play out at all. Times have changed, we don't even really know what the feds are up to these days. When the banks were bailed out, and the stimulus was used to help America gain its financial footing, Bernake had lent out 7.7 trillon dollars to foreign nations (http://forums.wallstreetexaminer.com/to ... n-dollars/). And this is what we know, can you imagine what we don't know?

Thoughts?

[Higgenbotham]

Regarding demand for 10 year treasuries, what would make anyone think that the current trends that are driving demand for 10 year treasuries are going to reverse this week?

Panic deposits from overseas hitting US banks will continue coming in until the crises hit bottom and they will go into 10 year treasuries. The banks pay zero interest and collect 2% on the treasuries. Why would they do this? Because there is nobody to lend the money to, the bull runs in stocks and commodities are probably over, and that leaves treasuries by default. If the banks are insolvent anyway, they're not looking out 10 years; they need the 2% income stream now.

Not only does capital flight from overseas eventually hit US treauries, so does domestic capital leaving the asset bubbles. These bubbles have likely only started bursting and the enormous run in stocks during October barely dented demand for 10 year treasuries. The demand for 10 year treasuries this year has been enormous, driving the interest rate even lower than its 2009 low. As the stock and commodity bubbles continue to deflate, that will continue to drive demand for 10 year treasuries.

At some point, if Congress continues to refuse to get its act together, the economy continues to worsen, the deficits continue to widen, the problems in Europe decelerate, the problems in Asia decelerate, stock and commodity price drops begin to decelerate, and the US no longer looks like the least worst alternative then that will be the time when a panic can occur in US treasuries. Why anyone thinks that time is this week is beyond me. Think about who may have bought 10 year treauries today and what will cause them to stop buying.

[OLD1953]

Bernake says that 7.7 trillion is way too high. Sans an audit of the FED, I don't know how you would ever know if he's telling the truth.

http://eurotradingtrend.com/7-7-trillio ... rnanke.php

[vincecate]

Vince, if banks could not create money by fractional reserve loans, then money could not disappear due to loan collapse. Since they can and do, the money can leave the system. This cannot happen in a cash only system, and it doesn't matter what the cash is, but in a fractional reserve system where 90% of the "cash" is actually derivative worth from loans, but spends and buys just like cash, money can indeed vanish in a financial collapse. The creation of money via loans is critical to any hyperinflation, and the destruction of money via loans collapsing is critical to any deflationary scenario in the modern system.

Hyperinflation is usually from the central bank buying government bonds with newly made money. The more they do this the less anyone else wants to buy these bonds, so the more they do it, till eventually the central bank is the only buyer and all privately held government bonds are effectively paid off with newly printed money. It does not depend on bank loans or fractional reserve banking.

I agree that theoretically you could get deflation with fractional reserve banking and fiat money. In practice the best example seems to be Japan with very slight deflation. I don't think there has been any deflation under a pure fiat currency that was comparable to what the dollar experienced in the early 1930s. At that time actual cash was disappearing. The Fed could only have $2.50 in circulation for every $1 they had in gold. As people took gold out of the Fed the Fed had to remove paper dollars from circulation. So in the market you had $2.50 in paper money being replaced with $1 in gold. That is serious deflation. And you get the exact opposite of the roaring 20s.

Of course the trick of more money in the 20s does not work again as inflation takes hold faster the more experienced an economy is with inflation. Back then prices had been stable for hundreds of years as people used gold and silver. As they had more money they felt rich. Now I expect prices will just go up and we won't feel rich.

[John]

If you're having trouble posting messages, see the following:

http://generationaldynamics.com/forum/v ... 190#p11190

John

[Trevor]

Since the housing market has lost about 40 percent of its peak value, how much lower is it going to go? I suppose the only good thing about this is that when this is over, housing will be more affordable.

[John]

Since the housing market has lost about 40 percent of its peak value, how much lower is it going to go? I suppose the only good thing about this is that when this is over, housing will be more affordable.

Probably another 20-30%.

John

[biffbifford]

I think you guys will find this link relevant to this discussion thread. Watch Nixion end the Bretton Woods Act - and review corresponding charts of the fed's balance sheets since 1971; Very informative!

http://greshams-law.com/2011/08/17/40-y ... #more-6164

[Trevor]

So what are the bond ratings in portugal and spain right now? Greece has reached a new record and Italy's are spiking back up at close to 7 percent again.